2009 State of the Market Report
The performance of the day-ahead market is important for three reasons:
The day-ahead market determines most of the generator commitments in the Midwest ISO; hence, efficient commitment requires efficient day-ahead market outcomes;
Most wholesale energy bought or sold through the Midwest ISO markets is settled in the day-ahead market; and
The entitlements of firm transmission rights are determined by the outcomes of the day- ahead market (the payment to an FTR holder is based on day-ahead congestion).
We evaluate the performance of the day-ahead market primarily by measuring the degree to which it converges with the real-time market because the real-time market reflects the actual physical supply and demand for electricity. Based on our analysis in this report, we find price convergence in the Midwest ISO was fair in 2009. The Midwest ISO generally exhibits day- ahead premiums which can be attributed to the higher volatility, risk, and RSG cost associated with buying in the real-time market. The day-ahead premiums are generally larger in the Midwest ISO than in other RTOs due to higher RSG allocations to real-time purchases. The convergence in congested areas in the West was worse than in other locations, in part because virtual trading activity fell substantially in 2009. This caused day-ahead congestion out of the West to be understated.
By arbitraging price differences, active virtual supply and demand participation in the day-ahead market also contributed to good price convergence in the Midwest ISO. However, virtual trading levels decreased substantially since late 2008 and into 2009. These reductions can be attributed to RSG allocation decisions made by the Commission in November 2008 and to tight credit conditions. Liquidity in the day-ahead market should improve when the Midwest ISO implements its new Indicative Rate RSG allocation, which will reduce the costs imposed on virtual supply offers.
Prices in the real-time market are generally more volatile than prices in the day-ahead market. However, real-time price volatility decreased 17 percent in 2009, due in part to the introduction of ASM. ASM has resulted in improved supply flexibility that allows the real-time market to